- Chief Market Strategist Tony Dwyer of Canaccord Genuity is following three indicators in the credit market to signal an opportune time to buy stocks again.
- Dwyer says the credit market indicators are currently signalling that a V-shaped economic and market recovery from the coronavirus pandemic is unlikely and that this recovery will need more time to play out.
- The credit market indicators Dwyer is closely monitoring include the US Treasury yield curve, business loan demand, and the Chicago Fed National Financial Conditions Subindices.
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Chief Market Strategist Tony Dwyer of Canaccord Genuity outlined in a note on Monday the three credit indicators he is following to help pinpoint when might be a good time to start buying stocks again.
Dwyer said he believes that a V-shaped recovery in the stock market and the economy is not being confirmed by what’s happening in the credit markets. Still, Dwyer said investors can’t get too negative on equities due to the Fed’s “game-changing decision” to launch a stimulus program that includes the ability for the Fed to purchase municipal and high-yield corporate debt.
“On April 9, the Fed showed they were willing to do what it takes to prevent a full-blown credit crisis that likely takes the worst-case scenario off the table,” Dwyer said.
Here are the three credit indicators Dwyer is watching.
1. “The US Treasury yield curve remains too flat.”
Dwyer pointed out that while the two- and 10-year spread has been reliable in identifying recessions, it can also be looked to as a guide to identifying sustained economic growth. As the curve steepens, banks have more incentive to start lending again, which can kick off a recovery in the economy.
Because of how low the two- and 10-year yield spread is now at 43 basis points, investors shouldn’t expect a V-shaped recovery until that spread steepens closer to 200 basis points, which is the same spread that marked the end of the recession in 2001 and 2009.
2. “The surge in Business Loan Demand still suggests further corporate fear.”
When the going gets tough, companies tend to draw down on their credit lines to have a pile of cash available to weather an economic contraction. They also tend to draw down on their credit lines when they fear those credit lines may no longer be available due to potential stresses in the bank and credit markets. Dwyer noted that the 26-week rate of change in business loan demand “is truly historic,” and investors shouldn’t expect a recovery in the economy and equity markets until there is a significant decline in business loan demand.
3. “Corporate Credit has dramatically improved, but key credit stress indicator reinforces slower recovery.”
Despite the quick recovery in corporate credit spreads, in part due to the historic announcement by the Fed that it would begin purchasing municipal and high-yield corporate debt, another credit stress indicator is experiencing a much slower recovery.
The Chicago Fed National Financial Conditions (NFCI) Subindices uses 105 stress indicators to gauge financial conditions. The NFCI is a broad representation of how tight or how loose financial conditions are. Dwyer said that the NFCI Subindices tends to peak and move lower prior to the end of a recession, and the recent spike in the index doesn’t yet show a potential peak, even despite Fed intervention.
While the equity markets have experienced a strong rally off the March 23 lows, Dwyer won’t turn more bullish on equities until he sees these three criteria met. Until then, expect a volatile road for equities ahead, he said.
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